Why Is Liquidity Management So Important for Small Businesses

David Webb

January 25, 2018

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There’s nothing more important when developing a small business than cold hard cash. Without it, your business would quickly run out of fuel and stop dead in its tracks. Moreover, despite your balance sheet having profit spelled all over it, clients won’t pay straight away. Consequently, this can leave a gaping hole in your budget which will slowly but surely bleed your small business to death. For this reason, you need to properly administer your finances and ensure that you have a constant flow of cash to stay in the game. In order to do this though, small business owners must focus on liquidity management or, in other words, they need to be able to meet all of their financial obligations with minimal losses. Therefore, let’s take a closer look at how liquidity management can help your small business stay financially ‘healthy’.

Projecting profits

When starting out, many small business owners fall into the trap of mistaking profit for cash. The two terms are in fact not synonymous. Unfortunately for them, they usually find that out the hard way when they have more of the former than of the latter. This is because, more often than not, you will have huge delays in payments from your customers, leaving you with a ‘fictional’ profit but no real cash to support that. This is especially troublesome when your business deals with providing services and you desperately need that cash to keep the project afloat. Time is of the essence here, so you want to be prepared for any potential ‘leaks’ in advance. You do this by projecting your estimated profits for the coming months to make sure you always have a steady stream of cash flowing in. Forecasting a negative balance means you need to cut all of your unnecessary expenses as soon as possible, lest your business sinks like the Titanic. Use income forecasting templates and keep rebalancing your budget until it stays clear of the red zone. In addition, always keep some of your cash on hand as a backup, seeing as how you cannot always predict the worst-case scenario.

What is cash flow?

You need constant cash flow in order to prevent your business doesn’t run out of steam. Simply put, it’s the amount of cash that flows in and out of your business over a certain period of time. Depending on your financial status, you can have either a positive or a negative cash flow. Naturally, you want to keep a positive cash flow whenever possible, as failing to meet your financial obligations makes your company insolvent or, in other words, bankrupt. There’s lots of examples of how small businesses completely ran out of juice halfway in during a high-paying project due to a lack of funds caused by project delays and the like, which are extremely hard to predict sometimes. If that’s the case then small businesses need to get some sort of fast cash loansas a form of CPR to keep their business alive in the interim, otherwise they’ll have to pull the plug. In order to maintain a positive cash flow, there are a few tactics you should employ to make sure your customers are paying their dues on schedule.

Show me the money

One of the biggest mistakes small business owners make is not sending invoices as soon as the product or service is purchased. This results in a huge delay in payment which clogs up all of your business’s vital arteries and we all know what happens next. Make them pay sooner rather than later and even reward this incentive with discounts for those who manage to do so in the first twenty-four hours. Leasing is also a good way of keeping your hard earned cash intact even though you will pay a bit more in the long run. Another thing to be wary off is customers with poor credit. If you don’t do a proper credit check prior to selling a product or service then you’re in for some hard time. What’s more, you can always increase the interest rates for customers with late payments so even if they take ages to pay up you’ll still get something out of them to make it worth the wait. You got inventory that isn’t moving at the pace you projected? Then fine-tune your pricing or offer a discount or make sales of said products until you get rid of them and never look back. Furthermore, if you’re not utilizing all the possible payment methods due to outdated technology then consider replacing that junk with something more efficient as that could what’s standing in the way of your profit. The same could be said for mobile phone payments which are on the rise these days, so make sure you tap into those as well. Finally, sometimes you could be doing everything right and all of this still won’t be netting you the income needed to cover your expenses. If all else fails then you definitely need to step up your marketing game to ensure a steady flow of customers and then cash will follow suit.

To sum up, entrepreneurs need to be aware that cash flow management is vital for maintaining a healthy business enterprise. Frequent financial tuning will keep your budget happy and you along with it.